Air Industries Group
Q2 2008 Earnings Call Transcript

Published: 24 Aug 2008

[Operator:]

Good day, ladies and gentlemen, and welcome to the second quarter 2008 Air Industries Group earnings conference call. My name is Erica and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (Operator instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's call, Mr. Chris Witty with Darrow Associates, Investor Relations. You may proceed, sir.

[Chris Witty:]

Thank you, operator. Good morning, everyone. I am Chris Witty of Darrow Associates and I welcome you to Air Industries Second Quarter Conference Call. For those who have not had a chance yet to review the earnings release, it's posted and it can be viewed on the Internet or you can get it to you thru e-mail or fax. On the call from Air Industries are Pete Rettaliata, President and Chief Executive Officer, Louis Giusto, Vice Chairman and Chief Financial Officer, and James Brown, Chairman. Management will review the financial results and other recent developments in their formal remarks. The formal portion of the presentation will be followed by a Q&A session. Before we proceed with the formal remarks, please be advised that statements made during this presentation that are not historical facts are forward-looking statements for purposes of Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995. These statements may include but are not limited to revenue and earnings projections, statements of business plans and objectives, product development and time to market issues, and capital structure, and other financial matters. Forward-looking statements may differ from actuality and relying on them is subject to risk. Factors causing forward-looking statements in this presentation to differ from results are discussed in the company's Form 10-K and 10-Q filings with the Securities and Exchange Commission. The company is not necessarily obligated to update forward-looking statements whether as a result of new information, future events, or otherwise. I will now turn the call over to Pete Rettaliata. Please go ahead, Pete.

[Peter Rettaliata:]

Thank you, Chris. Good morning to all of you and thank you for participating in our second quarter of 2008 financial results conference call. We filed our second quarter 10-Q on Tuesday and issued a press release on our results earlier today. In a moment, I will ask Lou Giusto, our CFO to review the financial performance for the quarter. First, I will cover some of the larger issues that are driving the company and keeping us very busy. After these remarks, we will be pleased to take questions from you. We have significant developments on the horizon. These events have been publicly announced and we have provided periodic updates. For today's conference call I would like to address these developments in order to give you granularity of the three primary objectives at Air Industries. These objectives are – number one, to grow the company through internal initiatives, number two, to grow the company through strategic acquisitions, and number three, to streamline and maximize efficiencies in our operations at the subsidiaries and corporate levels. I will first discuss our objective to streamline and maximize efficiencies in our operations at the subsidiary and corporate levels. At the corporate level, our operating income has suffered in the past two quarters primarily as a result of higher levels of general and administrative expenses associated with our strategic acquisition program and other public company costs particularly those related to financial control required for Sarbanes-Oxley. While we have largely completed the upgrades of our internal system and the effort to be Sarbanes-Oxley compliant we have been operating the last few quarters a bit short-handed in our financial department. But we intend to add additional talent in the near future to bolster our capabilities. As we continue to strengthen our financial team we will be better able to control our costs and manage our operations. Our SG&A reduction campaign will start to make an impact in the coming quarters. At the operating subsidiary level, we are very pleased with the progress and performance of our aircraft parts and assemblies businesses. That said certain programs slowed in terms of shipments this quarter as our programs – our limited capital resources constrained our ability to meet heightened demands. To address these issues, late in the second quarter, we raised funds with the sale of securities and issuance of our junior subordinated debt. The proceeds were applied to working capital, a significant portion of which was for the completion of work and process, much of which is being shipped now, and booked as revenues in the third quarter. Let me just add that we have approximately $3.5 million of our capital and raw materials at Sigma Metals subsidiary. This business has softened in the last several months and has acquired more of management's time. Since Sigma was acquired during the second quarter of 2007 it has not performed the level that we had anticipated. However, we are confident that we will be able to grow the business over the next several months. Moving to our objective for growth through internal initiatives, there is no better demonstration of this that our Air Industries Machining subsidiary. The business continues to add to record backlogs while receiving numerous bidding opportunities for new contracts. We are presently working almost two complete shifts in the plant and do not see this changing in a foreseeable future. One of the important programs we have been working on is the airbus 8380 for which we are building landing gear surface samples. We have significant capital tied up in this new program, but we view this as a long-term opportunity for which we will derive a lot of revenue and future benefits moving up the supply chain. Orders for the airbus program as well as our involvement with Sikorsky's BLACK HAWK helicopter program and other domestic and international military contracts contribute to our firm 18-month backlog of approximately $55 million at Air Industries Machining as of April 15, 2008. This is quite impressive indeed for a company with a public market capitalization of $10 million. Meanwhile, in terms of other indications of internal growth since the beginning of the year, our Welding Metallurgy unit has reported new orders that represent the largest aggregate amount of new contracts awards since the organization's inception nearly thirty years ago. More recently, Welding Metallurgy submitted the bid relating to engineering support and manufacturing of truck reverses for the Pratt & Whitney 800 program and potentially long-term and very meaningful contract. If we win this award, Air Industries Machining would participate as a substantial subcontractor to Welding Metallurgy for machine parts. This situation demonstrates the potential for substantial synergy between our operating companies as we grow. Due to the expertise of our engineering design staff, we have opportunities to get involved with many exciting new programs, including some involving Blair-HSM, our acquisition target. And with whom we are working cooperatively to win a contract to design and manufacture landing gear for the A700, a new entrant into the air-taxi marketplace. This takes my remarks to our third objectives, growth through strategic consolidation. The synergies between Air Industries Machining and Blair-HSM will clearly make us more competitive as a supplier of precision systems to aircraft manufacturers, enabling us to pursue a broader range of business moving forward. In addition, the merger promises to provide substantial cost savings and a multitude of new program opportunities for the combined entity. Like the Air Industries Machining, Blair-HSM is reporting strong growth across its businesses. To consummate this acquisition we need to complete our due diligence and funding efforts. Essentially, the last and remaining integral piece to this is the audit of Blair-HSM which is required by us as well as the potential investor as this funding has to make the acquisition. Although at a slower pace than we'd like we believe these developments are approaching fruition. The business opportunities for Air Industries, the internal growth and acquisition remain quite robust as we move forward with our corporate initiatives. We are committed to executing our business plan and are optimistic about our outlook for the remaining of 2008. We believe we are taking the necessary measures to create a powerful, diverse aerospace company that is positioned to capitalize on the favorable long-term global trends for commercial and military aircraft. I now pass the call to Lou Giusto, our Vice Chairman and CFO to provide a detailed review of the financial results for the second quarter of 2008.

[Louis Giusto:]

Thank you, Pete. Good morning, ladies and gentlemen. I will begin with the review of the second quarter 2008 income statement followed by the balance sheet and other financial items. Please take note of the following adjustments in our reporting process. In the fourth quarter of 2007, the company was able to quantify the capitalization of preproduction costs in accordance with the emerging issue, task force issue No. 99-5 accounting for preproduction costs related to long-term supply arrangements. Certain expenditures which had historically expensed including amounts expensed in the second quarter 2007 of approximately $434,000 and $685,000 in the second quarter of 2008 had been capitalized. Now, let's get to our financial results in detail. Net sales for the second quarter of 2008 were $12.7 million, an increase of 16% as compared to $11 million in the second quarter of 2007. The increase in revenue reflects both organic growth at our Air Industries Machining subsidiaries and an expansion of the company as a result of its strategic acquisition program. As a reminder, beginning with the fourth quarter of 2007, the company's net sales included results from Sigma Metals and Welding Metallurgy for the full quarterly periods. In the second quarter of 2008, the company's mix of business was approximately 60% military and 40% commercial as compared to approximately 68% military and 32% commercial in the second quarter of '07. Our largest customer Sikorsky represented about 37% of our revenue in the second quarter of '08 as compared to approximately 47% in the second quarter of '07. On a segment basis, Air Industries Machining had revenues of $7.9 million in the second quarter of 2008 or 61% of total company revenues as compared with $8.2 million or 75% of total revenue in the same period of 2007. Sigma Metals had revenue of $3.5 million in the second quarter of 2008 or 28% of total company revenues as compared to $2.8 million or 25% of total revenue in the same period of 2007. Welding Metallurgy had revenue of $1.4 million in the second quarter of 2008 or 11% of total company revenue as compared with nothing last year as it was not yet acquired. Total gross profit in the second quarter of 2008 was $3.5 million, an increase of 24% from $2.8 million in the same period in 2007. Gross margin in the second quarter of 2008 was 27.4% as compared to 25.5% in the same period of 2007. The increase in gross profit as well as gross margin primarily reflects end through product mix with a higher level of revenue and volume related manufacturing efficiencies at Air Industries Machining along with higher margin contributions from Welding Metallurgy. Selling and administrative, SG&A expenses in the second quarter of 2008 were $3 million as compared with $2.4 million for the same period in 2007. The increase in SG&A during the second quarter of 2008 reflects cost associated with expanded management and the addition of overhead expenses relating to the inclusion of Sigma Metals and Welding Metallurgy along with initiatives related to internal growth opportunities and fees and expenses pertaining to the company's ongoing consolidation strategy including the pending acquisition of the Blair-HSM Group Companies. Breaking out some of the other components of SG&A in the second quarter of 2008, cost associated with stock-based compensation amounted to approximately $117,000 and rent and related facilities expense increased by approximately $129,000 from the second quarter of 2007 reflecting the addition of new and additionals based on Long Island where Welding Metallurgy and Sigma Metals are now located. The same site will house the new corporate headquarters of Air Industries Group. Earnings before interest, taxes, depreciation, and amortization, EBITDA for the second quarter of 2008 was $1.1 million as compared to EBITDA of $654,000 in the prior year period. We consider EBITDA to be an important financial indicator of the company's operational strength and performance and use this indicator when making decisions regarding investments in the various components of its business and acquisition valuations. Because EBITDA is not a measurement determined in accordance with Generally Accepted Accounting Principles, GAAP, and is thus susceptible to varying calculations, EBITDA as discussed may not be directly comparable to other similarly titled measures reported by other companies. Operating income for the second quarter of 2008 was $503,000 as compared with $421,000 in the same period of 2007. The net loss before benefit from income taxes was $13,000 for the three months ended June 30, 2008 as compared to net income before taxes of $141,000 for the 2007 period. The company's net loss was $20,000 or $0.00 a share as compared to a net loss of $113,000 or $0.00 a share for the second quarter of 2007. During the quarter, the basic diluted weighted average shares of common stock outstanding were approximately 70.4 million. This compares with approximately 67 million weighted average basic and diluted shares of common stock in the second quarter of 2007. Moving to the balance sheet, on June 23rd 2008, the company sold junior subordinated notes due in 2010 as well as 983,324 shares of common stock to raise an aggregate $2,950,000. The proceeds of the sale of securities were applied towards the capital in support of increased customer requirements as previously mentioned. At June 30th 2008, Air Industries Group had bank and other funded debt including current portions of $21.6 million and availability under the company's loan facilities with PNC Bank. All cash balances are applied on a daily basis to amounts outstanding under the revolving portion of the company's loan facilities rather than being accounted for on the balance sheet as cash. For this reason, we presently do not show any cash on the balance sheet, but we have cash available that we would source from our banking facilities. In terms of other assets during second quarter of 2008, we capitalized $685,000 in engineering costs. So this amount is now present on our balance sheet. These costs are associated with future products and programs that will amortize on our income statement once we ship such products and start recognizing revenue with the corresponding costs. As a result of higher production requirements and a record level of awards, the company's total inventory at the end of the second quarter of 2008 was $25 million as compared with $21.8 million at the end of 2007. The company provides firm backlog as an indicator of future activity. As of August 15th 2008, Air Industries Machining had a firm backlog representing fully authorized orders for products to be delivered during the next 18 months of approximately $55 million. As we have stated before, our backlog remain at the highest level in the company's history. The company's financial results for the second quarter of 2008 and the record backlog do not include contributions from a pending acquisition of Blair-HSM Group of Companies. At the present time, we believe the addition of Blair-HSM would provide a material boost to our top line revenue and our margin expansion plans. That concludes my remarks on Air Industries Group's second quarter 2008 financial results. I will now turn the call back to Pete.

[Peter Rettaliata:]

Thanks, Lou. Ladies and gentlemen, as in the past quarters, I believe that we continue to demonstrate that Air Industries Group is executing a plan for growth and diversification in the very effective aerospace and defense market. The outlook for industry remains promising and we are working very hard to improve our positioning to capitalize on the many opportunities for increased market share and market expansion. I would now like to turn the call back to the operator so that we may begin the question-and-answer session.

[Operator:]

(Operator instructions) Your first question comes from the line of Howard Halpern from Taglich Brothers. You may proceed.

[Howard Halpern:]

Good morning.

[Louis Giusto:]

Good morning.

[Peter Rettaliata:]

Good morning, Howard

[Howard Halpern:]

In terms of the cost reduction campaign could you give us some idea as color as to the amount or maybe an annualized basis you hope to take out of your cost structure?

[Peter Rettaliata:]

I would think that we have identified something over $1 million annually right now and we are aiming at a number closer to a $1.6 million in terms of annualized reduction. Those reductions come from some very (inaudible) activities like reducing healthcare costs in terms of joining programs and things like that as well as reducing much of our activity related to acquisitions that are heightened at this time in working with Blair-HSM deal.

[Howard Halpern:]

In terms of this quarter, could you give a number on how much expense went into the process of acquiring Blair?

[Peter Rettaliata:]

I don't think I can calculate that right now, because in some ways it also gets tied to other improvements in our financial reporting activity that will permanently remain part of our program.

[Howard Halpern:]

Turning to I guess top line results. Looking at 10-Q, you talked about delivery gates [ph] were deferred. Do you have a revenue number that I guess still I get into the second – it's still from the second quarter into the third quarter?

[Peter Rettaliata:]

The main deferral has to do with a slowdown with the A380 program delivery schedule in the second half of this year. That program I believe accounted for something like $4 million in 2008, it will probably be cut in half for us. However, we have a very strong backlog and demand with the second half of 2008. We built in a lot of inventory and our work in process which really just means that we are shifting our priorities to support more quickly the Sikorsky buildup for BLACK HAWK. So I don't see this necessarily has a change in our net sales for 2008, but we have had to make some shifts in terms of our manufacturing priorities. It means we will carry our higher level inventory to that period and not realize some of the revenues that we may have on the A380 program.

[Howard Halpern:]

But you really expect a better second half in terms of the top line and you had…

[Peter Rettaliata:]

Absolutely. If you follow the progression we have doubled the level of work in process inventory from this time last year in anticipation of customer demand was the second half a large portion of which had to do with the growth and demand for Sikorsky BLACK HAWK and as you would figure that has awful lot to do with the (inaudible).

[Howard Halpern:]

And do you have the product mix also with the second half that could potentially get your gross margins into the 30% area?

[Peter Rettaliata:]

We have been growing from a gross profit level from below 20 to the mid-to-high 20s. I don't know that I would say that in this period we will be in 30% gross profit.

[Howard Halpern:]

And lastly, looking at the Q2 – also looking at the Q, will you able – or have you expect to with the next couple days to restructure the note payable to Welding?

[Peter Rettaliata:]

Yes. We have done some work to restructure that note with principal who sold us the company, and we are in that process right now.

[Louis Giusto:]

Yes, the lawyers are engaged in writing up an agreement, it has not been finalized as of this call, but we are – we believe that the result is going to be favorable to the company.

[Howard Halpern:]

Thanks, guys.

[Operator:]

Your next question comes from the line of Jim Schwartz from Gunn Allen. You may proceed.

[Joel Schwartz:]

Hey, good morning, Pete, it's actually Joel Schwartz [ph]. How are you?

[Peter Rettaliata:]

Good morning, Joe.

[Louis Giusto:]

Good morning, Joe.

[Joel Schwartz:]

Hey, Pete, one – maybe two quick questions. With regards to the increasing your backlog is there an amount that you can attribute if any to that increase in backlog with maybe a diversion of your resources focus on the Blair deal? Or is it simply just a function unit – functioning of new relationships and good business? And after that, can you give a little more clarity on the Blair transaction, possible timing or progress? Thank you.

[Peter Rettaliata:]

Sure. I can't attribute any of the increase in our backlog as the Air Industries Group has related to the Blair acquisition right now. What I can say – but I can't say too much about it, because I'd be speaking a little bit outside of where I have some authority. Blair-HSM is seeing some increase in their backlog, some of which in their potential backlog, some of which had to do with working together with them in some partnership on proposals or more advanced equipment that would require both of us to contribute. So I think much of the increase in backlog in we accrued up until now because of the relationship will start to occur first at Blair-HSM. We also have some very big opportunities that have not yet been realized but are waiting for the time at which we complete the deal. Most specifically, happy to do with landing gear, landing gear licenses. Now, that being said, we believe we are in the final stages of due diligence and we are very close to completing this transaction.

[Louis Giusto:]

One other thing that we can add here is backlog for us is the direct function of what's happening within the aerospace industry in general. And I think we here would like to share with the people on this call that the aerospace industry is enjoying robust period in its history right now and we are benefiting from that. As a result, you will see our backlog continuing to grow. The opportunities that are being presented to us are significant and we are entertaining (inaudible).

[Peter Rettaliata:]

I think I would also like to add to that we have been very, very selective about the projects that we have decided to become involved in, having to do with where we think they will be 10 years from now, not just a general flush up of the business today. There is certain projects that are better than others was a long-term. And so, we have been very careful to make sure that we get into Position A and we have had some very favorable comments from some consultants as to the nature of our distribution of contract involvement.

[Joel Schwartz:]

Okay, thank you.

[Operator:]

(Operator instructions) We have no further questions at this time. I would now like to turn it over to Mr. Rettaliata for closing remarks.

[Peter Rettaliata:]

Well, thank you and thank you for participating on today’s conference call. We appreciate the continued support of our shareholders and the interest from the broader investment community and our plans for aerospace industry expansion. We look forward to keeping you appraised on the developments of our businesses. Please feel free to call should you have any questions about the company. Thank you again for your participation today and good bye.

[Operator:]

Thank you for your participation. You may now disconnect.